Fortive Corporation (FTV) Earnings Call Transcript & Summary

Hello. This is a live stream operator. I have everybody in the side room already. What's your first name, just like to get that [indiscernible] ?

Rick.

Thank you, Rick. I'm going to send you in right now.

Okay.

All right. Yes, good morning, and welcome to the presentation for Fortive Corporation. I'd like to welcome to -- welcome you as well to the second day of Baird's 50th Annual Industrial Conference. So we much appreciate your attendance. So this time slot is for Fortive Corporation. Very quickly, I'm Rick Eastman, Managing Director and Senior Analyst here at Baird with my wingman, [ Rob Mason ], cover the advanced industrial equipment sector for Baird. We're pleased to have Fortive Corporation presenting today. Fortive is an industrial growth compounder. With a very high-quality portfolio that management is diligently and purposely shaped with a number of actions since 2016. Most recent seeing the separation of Vontier Corporation on October 9 of this past year. The net effect, in our view, is a portfolio that will demonstrate enhanced revenue and EBITDA durability due to an increased software and recurring revenue contribution and by repositioning in its end markets. What has remained consistent is a portfolio marked by strong franchises, strong market positions and strong profitability and free cash flow, all underpinned by the Fortive business system. So with us today to present from Fortive and take our questions are Jim Lico, President and CEO; also Chuck McLaughlin, SVP and Chief Financial Officer. So with that, I'm going to hand off to Jim. Jim is going to give us a presentation here, just kind of an overview of what Fortive does. And then we will pick it up with questions. If you have any questions, please e-mail me at reastman@rwbaird, and I will definitely work those into the backside of the chat. Jim?

All right. Hey, thanks, Rick. Great to see you in this COVID time. It's -- I think we take great joy in having some things back to normal. Obviously, we'd love to be in in Chicago with you and everybody on the call. But Chuck and I will take the opportunity to at least spend some time. We're looking forward to it. Maybe before we get started, I'd also like to say Happy Veterans Day to all of our veterans who are out there. We appreciate your service to our country, and thank you very much. With that, let's maybe get to -- take a few minutes to talk a little bit about Fortive. Obviously, a lot going on is as Rick mentioned in the opening, we -- on October 9, we announced the Vontier separation. So we thought it would -- it might make some sense to just take a couple of minutes to sort of reacquaint everybody with what Fortive is going to -- is really looking like going forward. I'll urge everyone to remember the forward-looking statements, and I'll move off that slide. First and foremost, hopefully, you get a sense of who Fortive is and those, you can see the numbers on the page. Great business characteristics. I think one of the things that as we really go become one company going forward, and we've sort of talked about the businesses like Fortive and Vontier for a little while and Fortive going forward. Just under $5 billion in revenue. I think some of the things that are probably new to all of you would be certainly the gross margin percentage now, certainly in the high 50s and in very good shape. As well as the high software revenue and recurring revenue. We'll talk a little bit about that, I'm sure, during the conversations. Certainly, the business characteristics continue to be incredibly helpful to what we want to do building the business going forward. I'll talk about that as we get into the segments. Good opportunity, not only for organic growth, but also as we continue to improve the organic prospects for the company in the future, but also inorganic opportunities. With the separation behind us, we have the balance sheet in very good shape. We feel very good about the opportunities to continue to add value to the business. Before I move to the next slide, maybe just -- I won't go into the end markets, but you can see with where we look like going forward, still continued strength in industrial and manufacturing markets. But also, I think, great opportunity. Certainly, one of maybe what is new to everyone now is, is the substantive nature of our health care platform segment. I'll talk about that in a minute, and certainly in a number of other segments. So I think the vertical exposure that we have is good, continues to get better, and we're excited about what we can continue to build here going forward. Maybe a little bit about the segments. We think there's great opportunities in the 3 new segments. We did put out some supplemental financials last night that you'll have an opportunity to go over as well to give you more -- give you more depth of understanding of how we look. Certainly, you see now our leadership and what we have. Rick mentioned the strength of our brands and the market positions, you see those in the bottom. And you see these really important workflows that we continue to see as important parts of the segments. The financials are strong. You can see the recurring revenue in the various businesses. We'll talk a little bit about that I'm sure as we get through a lot of the Q&A. But we feel really good about the positions of each segment. IOS, really focused on the strength of the positions that we have in these workflows around EH&S, facilities and asset management and condition monitoring, really opportunities to really take our strong hardware positions and build on with software and data analytics and services. We've done a considerable number of acquisitions to accelerate that in IOS over the last few years. I'll segue to Advanced Health Care, which we -- which obviously becomes a very important segment to us. With the acquisition of Advanced Sterilization Products or ASP from J&J. That, combined with both Censis as well as our Landauer, those acquisitions plus the core businesses that we had at Fluke Health and with Invetec, really give us a wonderful position with really high recurring revenue. And some really good workflows around sterilization and what we call the perioperative loop, or those are really what's going on. We're really bringing health care innovation, really bringing safety and productivity to the health care leaders, hospital leaders in the world, and we feel really good about the growth opportunities, both organically and inorganically with the positions we built here over the last couple of years. And then finally, Precision Tech, probably the part of the portfolio where we've seen the least amount of change. One change is we brought Qualitrol into that segment out of -- to be a part of our -- really our sensing businesses. And what you really see is product -- our Tektronix business with an opportunity to really take advantage of what's in product development and product development workflows as well as our sensing businesses that are really focused on growth and innovation that can really -- through IoT. So the sort of industrial IoT, but really, the broader IoT market is really give us an opportunity to really play bigger through mostly organic work that we've done here recently, but feel good about those opportunities. We can talk more about them as we go forward. Maybe just a little bit, just to sort of reaffirm guidance here a little bit -- I won't go through the details here, but certainly, we think as we mentioned in our third quarter call a few weeks ago, we continue to see -- we saw pretty dramatic improvement from Q2 to Q3. We expect some continued improvement, maybe not at the same slope of the curve from Q3 to Q4, but certainly in that 0% to 3% revenue, probably, you can see the segment numbers here. We'll see growth in our health care businesses with probably down in the low single-digit aspects in the other segments. So we continue to believe that we will have opportunities in the quarter. We can talk a little bit about that. Still [ had ] seen COVID impact. What we said about the fourth quarter and into 2021, there is a number of things that we're watching here to see where the trends will continue. Certainly, the macro is certainly one of those, elected procedures being the second thing. And then continuing to watch how the world opens up or doesn't open up and certainly building scenarios around those things that certainly are part of what -- how we think about the business. The other part of it would be, we did announce some productivity initiatives in the area of about $30 million. That's really to sort of deal with some of the temporary cost reductions that we've seen this year to really make them more permanent. We think the thing that allows us to not only continue to make sure that we've got the right sort of earnings profile, but more importantly, to make sure that we got the right investment profile to protect what we've called for years dynamic resource allocation, the opportunity to take cost out in some places to make sure that we continue to fund to the growth opportunities, share gain opportunities that we've continued to do through this year, we want to make sure that we can continue to do those into 2021, no matter what the various scenarios might play out relative to our revenue profile. We really updated the Fortive formula here, which we think is really important. You can see that it starts with our sort of outlook relative to core growth. We think we now have upped that to sort of a mid-single-digit profile. And I think it's important to know that what we've also done through that is not only, I think, give us less exposure to the cycle, meaning more resilient portfolio, but also grow back on the other side of the cycle. So I think we can't necessarily predict when a COVID situation is going to happen. But we've really made the portfolio growthier and more resilient here with the work we've done as we move forward. Margin expansion continues to be a hallmark of the work we do relative to the Fortive business system. It is -- even as we continue to change the portfolio around markets like software, as an example, we continue to see those opportunities for continuous improvement, which give us strong opportunities for margin expansion. The combination of that plus the improved portfolio really gives us that opportunity to deploy that free cash flow around acquisitions and continue to accelerate our strategy through acquisitions. And finally, the importance of maintaining a strong credit rating gives us access to the credit markets at lower rates, which we think, obviously, continues to build on the strength of -- of where we come from and who we can become as we go forward. So you'll see the continued track record of disciplined capital allocation. You'll continue to see that balance sheet capacity give us that opportunity for growth. And then finally, as we've talked so often with many, many folks, but hopefully, some of you maybe are new to the story, the continued improvements that we can make in the business through the Fortive Business System, which is much more than a cost reduction process, if you will. Sometimes, I think people think of FBS as purely a productivity initiative. When in fact, it's really more -- as much about continued accelerating innovation, building great commercial skills in the combination of those things, some of which are productivity in those areas as well. As it really continues to deliver on the promise that we have to customers around great brands, great technology and superior customer satisfaction, and ultimately, that continues to build on the strength of the brands that are so important to our story. So I think Rick, with that, Rick, pretty quick. But obviously, we'll have a discussion. Chuck and I are looking forward to talking a little bit more, but hopefully, that gives everybody at least gets everyone a little grounded on our story and who we are. And with that, we'll take some questions.

Yes, absolutely. Jim, just from your slides, the way the slides were presented up there, I couldn't see the right-hand side of the slide. But who's got leadership of Advanced Health Care Solutions?

Barbara Hulit. So maybe just a little bit about leadership. Continued leadership in no new news there in terms of leadership of those segments. We were running those businesses pretty similar to that prior to -- through our platform structure now just accelerate -- now more visible in the segment structure.

Yes. I see. Okay. Let me just back up for a second. I just -- you guys are global enough here. And I just -- I want to get your opinion. Just with the change of administration here in the U.S. I mean what are your thoughts -- do you lean into a Biden administration, either maybe a little bit less pressure on tariffs. I mean that I know we bought those off in '19. And then any other funding priorities. I mean do you lean into it or lean away from it relative to where we were?

Well, I think first, we'll sort of tag team this. I think one is, I think it's very early to tell what. I think we still need to see things play out in the Senate, obviously, see what sort of -- what Congress looks like along with any Biden whatever details of the Biden administration will be and the timeliness of that. So I think at this point, whether -- what we'll lean into is, I think, the strategies we have. We've leaned in through the year on the growth opportunities, and we'll continue to take stock of where we see things. I think it's as much a global -- what the global economy is going to look like as much as it is a U.S. situation. While we do have a bigger preponderance of our revenue in the United States, we certainly are looking at things like, how are the high-growth markets going to play out? I think what we've seen is China has been a good market for us this year. But I think the rest of the high-growth markets have been a little bit fits and starts. So I think we're still sort of assessing from a scenario perspective, what a number of those things are going to look like. And I think it's still -- quite frankly, it's still too early to tell as to what sort of level of certainty, economic certainty is going to be around the world to really help us understand where the opportunities are. But I think what we will talk about, I'm sure, through the rest of the conversation is how we're leaning in from a technology standpoint, how we're leaning into some of these great businesses that have been part of the portfolio.

And Rick, as it regards to tariffs, I think that we've got it set up as no change at this point. We haven't really heard anything there. But one thing that has been going on this year amongst the pandemics, we've continued to work on our supply chain. And so we've continued to mitigate some of those tariff impacts, not really visible with the top line being impacted the way it is. But if they were -- even if they all came off, it's really would be at most a tailwind of $0.01 a quarter for us.

And I don't think you'd see a [ holes ] to Chuck's point. I mean, at the end of the day, I think we like where the supply chain is now from a risk assessment perspective. So the idea that we might go back to something is probably not necessarily something we'd be thinking about. I think the supply chain mitigation strategies that Chuck is describing really put us in a position, I think, from a risk assessment perspective, that puts us in a place where we want to be.

Yes. Yes. Fair enough. Fair enough. Is it also safe to say that probably the biggest variable to watch here is just around tax policy? I mean you referenced earlier, Senate makes a difference here. But is that actually the biggest single thing to be concerned about depending on how it ...

Well, I think that, knock wood, the biggest single thing, it's the top line. But after you get away from how the top line comes back. Certainly, tax is something that we'll continue to evaluate. I think it will take a little longer to play out than maybe if -- first of all, who has control of the Senate, plays into that. But even without that, there's a lot of things to consider there, and it's just way too early to tell. I wouldn't expect that to be a dramatic in-year change. Even if you go back to the Trump Tax Reform, that played out actually over multiple years. So -- and that came really quick. So we just have to wait and see.

So you say, okay, fair enough. Fair enough. Yes. Let's kind of get off that topic. In terms of the new segmentation here, I mean you referenced this earlier, but is there any adjustments or opportunities around this new structure? And I'm thinking maybe cross-marketing or revenue synergies. I think the biggest single move that I could see from old to new structure is maybe Fluke Biomedical kind of moving over to the health care segment. But does that open up any just -- any synergies on the sales side or cost side or just by repositioning the businesses under 3 leaders?

Well, as you said, there's not a dramatic difference. But I do think that when we look at those 3 segments, particularly probably in maybe Health Care being the one that's maybe the newest, as you mentioned, Fluke Health coming over. And Barb is really, I think, thinking both organically and inorganically, where those opportunities are. We've been leveraging opportunities between, as an example, already, Censis and ASP. So I think there are -- we will continue to build on some of those things. If we think about some sales processes, we aggregate some platform work around product development and innovation. That will play out over maybe a longer period of time in that market. But I think at the end of the day, when you start to think about how we position both organically and inorganically, those segment leaders with sort of full opportunity to really build those segments out. Fundamentally, if you believe in clarity of leadership and that kind of thing. There's certainly going to be some opportunities there that will play out over time. But we run these businesses today, the way we ran them yesterday at the individual operating company level. So I don't anticipate that the running of the business is really through the we think about culturally and through the Fortive Business System, those things don't change very much. But certainly our outlook and how we can build businesses will continue to be accelerated over time. And we're excited about the new segmentation because it also, I think, gives our employees the clarity of where are we going in those segments is right for professionals. If you're a heath care professional or vice -- or if you're in the sensing industry or whatever. So I think there are some real opportunities for that. But at the end of the day, I think we're really -- we're excited about how we'll position them going forward, just from clarity. And certainly, I think investors will continue to see that over time.

I see. Yes, yes. And when I look at the profitability, and honestly, I'm kind of doing this real-time here with your 8-K filing last night. But when I look at the profitability across these 3 markets, it's interesting. Intelligent Operating Solutions has kind of this adjusted profit margin, 29%. The other 2 businesses, kind of 21% to 22%. And maybe some thoughts there. I mean, what, what is the difference there? What is that gap in Op profit margin, adjusted Op profit margin? I mean, is it -- maybe just help me with that. And what is the opportunity in Precision Tech and also Advanced Health Care Solutions. What's the runway there?

I'll answer the second part, maybe, again, good opportunity to tag team a little bit. I think, one, there's always opportunity to grow margins. So I don't ever look at where we're at necessarily as a -- we don't ever see a line that there's some golden and -- there's some Mendoza Line or something that you can -- you have to cross here. I think in many respects, we have as much opportunity in IOS as we do in the others. So I would say, from an opportunity perspective, we feel very good about those opportunities. Some of it will come through FBS, for sure. And some of it comes from the continued evolution of the portfolio, more software, more data in all those places tend to lead to higher profit margin opportunities.

And Rick, a couple of things I'd add on to that. Obviously, when you -- when you look at Precision Technologies, in a COVID year, these are a little bit depressed, and I would expect them to grow naturally as we recover out the other side of that. And in health, one big thing when you're looking at those 8-K filings, is we weren't off the TSAs, but I think you'll see, as we've signaled on the slides Jim just went over here that health comes up to the mid mid-20s on EBITDA margins, just by Fluke or ASP coming off the TSAs and moving forward.